• U.S.

Why Can’t Drug Costs be Reined In?

15 minute read

It was the sort of Washington spectacle that Hollywood likes to re-enact with better lines, prettier people and a much more satisfying ending. In April, three kings of finance–a hedge-fund billionaire and two former pharmaceutical executives–were told to raise their hands, swear an oath and endure a public flogging.

The accused, all in charcoal suits, were architects of a strategy at Valeant Pharmaceuticals International in which the company would buy patents for unique, lifesaving drugs, hike their prices and then watch the profits roll in. “It’s using patients as hostages,” Missouri Senator Claire McCaskill said. “It’s immoral. It hurts real people. It makes Americans very, very angry.”

Angry, yes. But will Congress act or will the industry reform itself? That’s much harder. In the cinematic version of this set piece, companies cave, executives go to jail, and sanity is restored. The real-life version leaves us wanting more. In fact, even in the wake of the Valeant pricing scandal, an industry that enjoys remarkable advantages and even more remarkable profits remains unlikely to be reregulated anytime soon. That’s all the more striking because, even as the rest of the pharmaceutical industry has scrambled to distance itself from Valeant, congressional and media investigations have revealed that the embattled company’s business model is hardly unique.

Certainly Valeant didn’t think it was alone. In a memo from Oct. 16, 2015, obtained by TIME, the global investment bank Canaccord Genuity wrote that the price increases were not out of the ordinary. “We believe the company is being used as a political gambit and is being unfairly targeted,” the bank wrote, “given that this practice is widespread throughout the industry.” In a report from the same day, BMO Capital Markets reiterated that Valeant’s tactics were a “common industry practice” and that “at least 14 different pharmaceutical companies, excluding Valeant,” had made similar price hikes in recent years.

The difference is in degree. While Valeant doubled and tripled the prices of its new drugs overnight, other drugmakers have arrived at similar results but with smaller price hikes, imposed over longer periods of time. Last year, drugmakers increased the prices of their brand-name drugs in the U.S. by an average of 16.2%, according to Express Scripts’ Prescription Price Index. That’s on top of average price increases of roughly 10% for the past five years and counting.

At the April hearing, the Valeant executives appeared contrite, disavowing the pricing strategy that landed them in the hot seat. But it wasn’t enough. “Pigs get fed, hogs get slaughtered,” McCaskill said, wielding a withering gaze. “It’s time to slaughter some hogs.”

If you are a politician in America today, the drug companies make an easy villain. In the presidential race, presumptive Democratic nominee Hillary Clinton has vowed to rein in the “price gougers,” while presumptive Republican nominee Donald Trump blamed Washington elites, in thrall to powerful drug companies, for letting the profiteering go on. Meanwhile, state lawmakers, top physicians and the AARP have joined the chorus, pushing several new bills that would allow Americans to import cheaper drugs from Canada, speed up the Food and Drug Administration’s drug-approval pipeline and empower Medicare to negotiate costs directly with drugmakers. With some of the biggest drug companies posting profit margins in the first quarter of 2016 north of 30% and total U.S. spending on drugs up 12.2% from 2014 to 2015, the system, they argue, is simply out of whack.

“All of a sudden, everyone from employers to health plans to doctors are saying, Yikes, we’ve got a monster on our hands,” says Steve Pearson, president of the nonprofit Institute for Clinical and Economic Review. But the solution isn’t easy, he warns. You might want to feed the pigs and slaughter the hogs, but how do you figure out which is which?

The first thing to understand about drug prices is that the rules of supply and demand do not apply. “People say, Let pharmaceutical manufacturers charge whatever the market will bear,” says Aaron Kesselheim, an associate professor at Harvard Medical School. “But it doesn’t work that way. It’s not rational like that–it’s a flawed market.”

That’s partly because sick patients aren’t normal consumers and therapeutic drugs aren’t normal products. Unlike the way we shop for, say, hand soap, patients typically lack the knowledge and options to compare the cost and quality of various medications. They just want to get well. That problem is exacerbated by our insurance-based system, which shields most of us from the real impact of a drug’s price, driving up spending overall.

The math’s even messier when it comes to life-threatening diseases. Or when there’s only one or two medications in the first place. For example, one of the only drugs that treats Wilson’s disease–a rare, inherited disorder–is the 30-year-old Syprine, which Valeant bought in 2010. In the years since, Valeant has boosted the price by nearly 3,200%, leaving those who rely on the medication to survive with very little choice. Berna Heyman, a retired university library dean from Virginia who has Wilson’s, says she felt trapped. Before 2013, her co-pay was under $700 per year; after, it was projected to exceed $10,000, she says. Meanwhile, her health plan was on the hook for about $260,000 per year. “That is untenable,” she says. “Something has to be done.”

The federal rules that regulate the drug industry also distort the market. The government, for instance, requires Medicare drug plans to cover almost every cancer treatment approved by the FDA, no matter how expensive. “They cannot say no,” says Pearson. “They’re in a position where they have to say, We’re going to pay for it, and you get to tell us how much you’re going to charge.” The FDA’s approval and patent process is also a double-edged sword. Patents and data-exclusivity laws were designed to allow a drugmaker to operate competition-free–shielded from the price-depressing force of generics–for decades, in order to recoup the money it spent researching and developing a medication. If you factor in all the opportunity costs of research and experimentation, shepherding a new drug to market can run pharmaceutical companies more than $2.5 billion, according to a study by Tufts University’s Center for the Study of Drug Development. But drugmakers can also stretch those protections to avoid legitimate competition. By patenting everything from how a medicine is manufactured to what kind of capsule it comes in, and by strategically re-upping the life of a patent by tweaking the way a drug is formulated, drugmakers can build legal fortresses around their products.

For example, while the basic compound for AbbVie’s best-selling anti-inflammatory drug Humira expires in December, AbbVie CEO Richard Gonzalez assured analysts in 2015 that its nearly 70 additional patents would keep the drug competition-free until 2022. “Any company seeking to market a biosimilar version of Humira will have to contend with this extensive patent estate which AbbVie intends to enforce vigorously,” he said. Between 2010 and January 2016, AbbVie increased the wholesale price of Humira by 138%, according to Truven Health Analytics. Two doses cost $1,600 in 2010; now they’re $3,800. Since 2005, AbbVie has made more than $53 billion from sales of Humira, according to IMS Health. By 2020, the company expects the drug to deliver $18 billion per year.

All this may help explain why the drug industry boasts some of the biggest profits of any industry. In the first quarter of 2016, AbbVie posted a net profit margin of 23%–almost modest compared with Amgen’s 34%, Biogen’s 36% and Gilead Sciences’ 46%. By comparison, Google’s parent company posted a 21% quarterly net profit margin in 2016; Walmart’s average is 3.5%.

It’s perhaps no mystery, then, why Wall Street investors have swooned over the sector. From 2012 to the middle of 2015, more than $50 billion in new capital poured into the industry, according to Leerink, an investment bank that does equity research. That influx of cash shifted the character of the industry, says John Rother, head of the nonpartisan advocacy group National Coalition on Health Care. Instead of focusing on time-consuming R&D, drug companies began worrying more about delivering short-term gains to shareholders, he explains.

A 2010 Morgan Stanley report advised that companies “exit research” and “create value” by buying companies and promising new drugs. The industry appears to have taken that advice. According to the consulting firm KPMG, mergers in the pharmaceutical industry were valued at $298 billion in 2015, up 84% from just a year before. For 20 of the biggest drug companies, 80% of shareholder earnings in 2014 were the result of price hikes, according to the investment bank Credit Suisse.

Typically, drugmakers have followed a rule of three: if you raise prices, do it quietly, modestly and over time. Valeant got into trouble because it broke that rule. In February 2015, it acquired two heart drugs, Isuprel and Nitropress, from Marathon Pharmaceuticals. Then it jacked up the prices overnight, by 525% and 212%, respectively. The move caught the attention of Representative Elijah Cummings, a Democrat from Maryland, who fired off a letter to Republican Representative Jason Chaffetz, chairman of the House Oversight and Budget Reform Committee, asking for an inquiry into the company’s pricing decisions.

Congressional staffers later uncovered a ream of documents in which Valeant appeared to strategize about how to squelch public notice of its price hikes. One memo advised that Valeant employees say the price increases were necessary to underwrite research and development. (Valeant spent 3% of revenue on research; the industry average is closer to 20%.) Another suggested that the company’s patient-assistance program, which provides drugs to those who can’t afford them, might help “minimize media coverage of the pricing increase.” In another document, then Valeant executive Jeff Strauss acknowledged the utility of the patient-assistance program from a public-relations perspective. “Kind of hard to paint us as greedy,” he wrote, “if we have removed financial barriers for patients.”

The pharmaceutical industry was quick to condemn Valeant and similar drugmakers’ pricing tactics, decrying them as “hedge funds masquerading as pharmaceutical companies.” But the reality was more nuanced. Instead of hiking prices as dramatically and as rapidly as Valeant did, mainstream pharmaceutical companies have built their businesses on boosting drug costs slowly, sprinkling 7% or 10% price hikes over the course of a year. The result is that many popular drugs also increase in cost by as much as 300% and drive profits–but they don’t draw public scrutiny. “If there’s price increases that can be taken and delivered to shareholders, we’ll go get it,” explained James Mullen, former CEO of pharmaceutical company Biogen, according to the Wall Street Journal. “But I do think we got to make sure we take a long enough view and you don’t start to put this thing in a box, where you get the backlash.” Biogen quietly increased the price of its multiple-sclerosis drug, Avonex, by an average of 16% per year from 2005 to 2014.

Amgen’s popular anti-inflammatory drug, Enbrel, followed a similar trajectory. In June 2014, the list price rose by 7%. In November, it rose 8% more. In May 2015, it increased by another 10%, and the following September and December, there were two more 8% price hikes, according to Truven. Since acquiring the drug from a smaller drugmaker in 2002, Amgen has boosted Enbrel’s annual wholesale price from about $12,000 to $48,000, a 300% price hike–delivered without raising a senatorial eyebrow. In a statement for TIME, Amgen explained that its prices “reflect the economic value that is delivered to patients” and “the investment and risk undertaken and the need to fund continued scientific innovation.”

Its pricing strategy is also shared by nearly all of the major drug companies. Between 2010 and early 2016, Pfizer’s pain med Lyrica increased by 156%, and Merck’s diabetes remedy Januvia doubled in wholesale price, according to Truven. Similarly, Otsuka America Pharmaceuticals’ antidepressant drug Abilify soared 108% from 2010 to 2015. Since 2007, when Eli Lilly purchased the drugmaker ICOS and gained full ownership of the erectile-dysfunction drug Cialis, it has increased its wholesale cost by 300%. A bottle of 30 tablets was priced at $342 in 2007; now it’s $1,375.

Pharmaceutical companies argue that these numbers don’t tell the whole story, since they focus on publicly available wholesale prices, rather than the undisclosed, negotiated ones that insurers and pharmaceutical distributors end up paying. For example, while the list price for a standard weekly dose of Enbrel is $932.16, a spokeswoman said, the average selling price is 24% less: $704.23. But industry analysts say the discounts that drug companies offer are not enough to offset the price hikes. After adjusting for estimated rebates and other price concessions, net spending in 2015 was still up 15% for specialty drugs and 8.5% for all medications from the years before, according to IMS Health.

Drug companies also argue that the recent public attention on prices misses the big picture. New medications keep patients healthy, working and out of the hospital–which ends up saving all of us money in the long run. For example, groundbreaking new drugs treating hepatitis C have the potential to help millions of Americans living with the disease. “There has been so much focus on the cost of medicine,” says Robert Zirkelbach, a spokesman for industry lobby the Pharmaceutical Research and Manufacturers of America (PhRMA), “but not enough on the benefits that new medications provide to patients and society.”

And that, says Len Nichols, director of the Center for Health Policy Research and Ethics at George Mason University, is exactly what makes fixing the problem of rising drug prices so tricky. How do you write laws and regulations that incentivize innovation while simultaneously discouraging price gouging? And how do you regulate an industry that spends more on lobbying than any other industry in the country? “The bottom line, absolutely, is that Americans want innovation–we need it,” Nichols says. “But right now we’re overincentivizing it, it’s out of whack, and the profit margins prove it. We have to increase competition in the market to drive those prices down.”

With Congress staking out the rhetorical high ground but unlikely to act against well-connected drugmakers, states may step in. In the past few months, lawmakers in Massachusetts, North Carolina, Oregon, Pennsylvania and California have introduced bills that would require drugmakers to justify how they arrived at a given medication’s price. A Vermont bill that passed in May, for instance, singles out the 15 drugs that the state Medicaid system spends the most money on, and then requires pharmaceutical companies to explain their price tags.

PhRMA has battled these bills, dismissing them as an effort to make a “political point” rather than impel real change. But the industry also sees two ballot initiatives in Ohio and California, which may be up for a vote this November, as genuine threats. Those measures would require their respective states to pay no more for medications than the Department of Veterans Affairs, which has some power to negotiate prices and enjoys legally mandated rebates on certain patent-protected drugs. Patient advocates in Ohio and California say that giving states those same privileges would reduce government spending on certain retirement health programs, Medicaid drug programs and state-funded AIDS initiatives. In May, Bernie Sanders, the Vermont Senator and candidate for the Democratic presidential nomination, expressed support for the California ballot measure.

The pharmaceutical industry has compared such measures to rolling a grenade into the marketplace. Amassing nearly $70 million to fight the California initiative, the industry, joined by other business, labor and patient-advocacy groups, argues that the measure is legally flawed and would result in higher prices and delays for patients trying to access their medications. In Ohio, PhRMA challenged the legality of the petition process that led to the measure.

While state referendums are usually an uphill battle, the political climate, uniquely allied against drug companies, may give the proposals legs. On the campaign trail, Clinton, Sanders and Trump have rallied behind a related idea: to give Medicare, the federal program for seniors that pays for a huge bulk of prescription drugs, the power to negotiate directly with drugmakers. At a time when nearly 75% of Americans believe that drug companies put profits before people, according to a recent Kaiser Health poll, the proposal has popular appeal. “We are going to negotiate like crazy,” Trump has promised at rallies. But the Congressional Budget Office has warned that the move would have a “negligible” impact on cost savings unless lawmakers also empowered the agency to refuse to cover drugs deemed too expensive or not cost-effective–a political third rail that would likely result in some seniors losing access to certain medications.

Clinton, Sanders and Trump also support proposals that would allow Americans to import cheaper drugs from Canada. In September, Sanders introduced a bill in the Senate to that effect, though with opposition from most Republicans, the Obama Administration and industry groups, it’s unlikely to pass. Senators Susan Collins and McCaskill’s bipartisan bill has a slightly better chance. It would speed up the FDA’s process for approving competing generics, known as biosimilars, for biologic drugs, which are more difficult to make and more expensive to consumers. It would also reward companies for developing medicines to compete with drugs that now have the market to themselves.

One modest change is already visible: as the industry has endured scathing congressional hearings, many companies have slowed the rate of their price increases. On May 16, Valeant announced that it would offer a discount on the two heart drugs, Nitropress and Isuprel, that got it in trouble in the first place. After jacking up the prices of those drugs by more than 300% and 700%, respectively, the company said the discounts may be as high as 40%–hardly the stuff of a gratifying Hollywood ending.

More Must-Reads from TIME

Write to Haley Sweetland Edwards at haley.edwards@time.com